Taxpayer Petitions for Rehearing in Grapevine

The taxpayer has filed a petition for rehearing en banc in the Federal Circuit in Grapevine.  Because Grapevine is the first appellate decision to rely on the new regulations (see here), the petition focuses part of its argument on criticizing the Federal Circuit’s decision to defer to those regulations, especially after the same court in Salman Ranch had rejected the statutory interpretation embodied in the regulations.  The petition also argues that applying the regulations to Grapevine is unlawful, even if the regulations could be controlling in future cases, because Grapevine had already obtained a favorable judgment from the Court of Federal Claims before the regulations were promulgated.

With the courts of appeals hopelessly conflicted already on the Intermountain six-year statute of limitations issue, it is a longshot to expect the Federal Circuit to want to wade into these issues en banc.  At this point, that court most likely will be inclined to sit back and see what the Supreme Court has to say.

Grapevine – Petition for Rehearing

D.C. Circuit Leans Toward Government at Intermountain Oral Argument

On April 5, the D.C. Circuit (Judges Sentelle, Randolph, and Tatel) heard oral argument in Intermountain and its companion case, UTAM.  The court’s questions generally indicated that the most likely outcome is a reversal of the Tax Court and another point for the government in the circuit court competition that is currently tied at 2-2.  (See our recent report on the Federal Circuit’s decision in Grapevine.)

Judge Randolph in particular was an advocate for the government’s position.  He dismissed the argument that Congress could be regarded as having adopted the Colony result under the doctrine of reenactment, and he expressed the view that Colony could not be controlling for an issue arising under the 1954 Code.  He also indicated his belief that an overstatement of basis is logically encompassed within the phrase “omission from gross income.”

Judges Sentelle’s questions were more evenhanded.  Both he and Judge Tatel indicated some skepticism about the government’s textual argument that a basis overstatement is an “omission” from gross income.  Judge Sentelle also pressed government counsel on the Supreme Court’s statement in Colony that the 1954 Code was unambiguous.  But he seemed satisfied with government counsel’s response that the Court’s statement must be read in light of the additions made to the 1954 Code that the Seventh Circuit relied upon in Beard. 

Judge Tatel followed up on this issue, pressing taxpayer’s counsel to explain why those additions did not defeat the taxpayer’s reliance on Colony.  Taxpayer’s counsel argued that these additions did not exist in the partnership statute, section 6229, and also directed the court to the Federal Circuit’s decision in Salman Ranch Ltd. v. Commissioner, 573 F.3d 1362 (Fed. Cir. 2009), for an explanation of why these additions were fully consistent with applying Colony to an individual under the 1954 Code.  But it was not apparent that these arguments were making headway.  Judge Tatel also jumped in to squash taxpayer counsel’s attempt to get mileage from the fact that the controversy was well underway before the temporary Treasury Regulations issued.

Overall, most of the argument was devoted to Colony and to parsing the statutory text and the differences between the 1939 and 1954 Code provisions.  All three judges appeared comfortable with the notion that, if they found Colony not to be controlling, then Brand X and the principle of Chevron deference to Treasury regulations would lead inexorably to a ruling for the government.  That is probably the most likely outcome, though, as we have noted previously, it is likely that the Supreme Court will have the last word.

One glimmer of light for the taxpayers was Judge Tatel’s exploration at the end of the argument of the question whether the taxpayers had made an adequate disclosure that would defeat the six-year statute of limitations.  Government counsel conceded that this issue remained open and that it should be addressed by the Tax Court on remand if the decision is reversed.

Government Rehearing Petition Filed in Burks

As promised, the government filed a petition for rehearing en banc in the Fifth Circuit in the Burks case.  The filing has one wrinkle that differs from the numerous other recent filings on this issue.  The petition claims an intracircuit conflict as a basis for rehearing en banc, arguing that the panel’s decision conflicts with Phinney v. Chambers, 392 F.2d 680 (5th Cir. 1968), a case that the panel had found distinguishable.  See our previous report on the Burks decision here.

Burks – US petition for rehearing

New Government Filings Try to Unify Courts of Appeals Behind the Six-Year Statute for Overstatements of Basis

As we have reported extensively (e.g. here and here), the courts of appeals appear to be hopelessly split on the “Intermountain” issue of whether a six-year statute of limitations applies to overstatements of basis.  Nevertheless, the government has not given up on the possibility of winning this issue in all courts of appeals and thus eliminating the need for it to go to the Supreme Court.  To that end, it filed in two cases at the rehearing stage yesterday. 

In the Beard case in the Seventh Circuit, the government filed a response opposing the taxpayer’s petition for rehearing en banc.  It argued that the Seventh Circuit’s pro-government decision was correct and pointed out that the Seventh Circuit “cannot by itself resolve this conflict” in the circuits even if it grants rehearing, because there are multiple circuits that have ruled on both sides of the issue.

In the Home Concrete case in the Fourth Circuit, the government filed its own petition for rehearing en banc.  It argued that the Fourth Circuit erred and should instead adopt the reasoning of either the Seventh Circuit in Beard or the Federal Circuit in Grapevine.  Lawyers being what they are, the government’s own petition managed to avoid pointing out to the Fourth Circuit that it “cannot by itself resolve this conflict.”  The petition did state that the government also plans to seek rehearing in the next few days in the Burks case in Fifth Circuit — the other court of appeals that has rejected the government’s position even after the new regulations issued.

For now, these filings seem to put the Beard case back in the lead as the first case likely to be ready for Supreme Court review.  But that can change depending on the respective speed with which the different courts of appeals rule on the rehearing petitions.

Beard – US response to rehearing petition

Home Concrete – Petition for Rehearing

Seventh Circuit to Consider Petition for Rehearing in Beard

On March 7, the taxpayer filed a petition for rehearing en banc (attached below) with the Seventh Circuit in Beard, emphasizing that both the Fifth and Fourth Circuits had explicitly disagreed with that decision and reached the opposite result on the Intermountain issue.  Although courts of appeals often deny such petitions without a response, the Seventh Circuit almost immediately directed the government to file a response, which is due March 23.  Today’s pro-government decision by the Federal Circuit in Grapevine perhaps takes a little steam out of the possibility of rehearing since a circuit conflict will likely persist even if the Seventh Circuit rehears the case and reverses itself, but the full Seventh Circuit still may want to consider whether the panel had a sound basis for disagreeing with so many other courts.  The Grapevine decision, of course, rests on a different ground from Beard — namely, deference to the new regulations.  With respect to the statutory issue addressed by the Beard panel, the Federal Circuit also is in disagreement with the Seventh Circuit.

Beard – Petition for rehearing

Federal Circuit Adds to Intermountain Conflict by Deferring to New Regulations That Apply Six-Year Statute to Overstatements of Basis

The Federal Circuit has ruled for the government in Grapevine, throwing the circuits into further disarray by adopting an approach that differs from all three of the courts of appeals that have previously addressed the Intermountain issue subsequent to the issuance of the new regulations.  Because the Federal Circuit had already rejected the government’s construction of the statute in Salman Ranch, the Grapevine case starkly posed the question whether the new regulations had the effect of requiring the court to disregard its prior decision and reach the opposite result.  As we previously reported, at oral argument the day after the decision in Mayo Foundation, the government told the Federal Circuit that Mayo compelled that result.  The court has now agreed.

A key section of the court’s opinion considers whether the Supreme Court’s decision in Colony defeats the government’s deference argument.  The court says it does not because Colony itself stated that it did not regard the statutory text as unambiguous and, even considering the Colony court’s review of the legislative history, the court did not believe that “Congress’s intent was so clear that no reasonable interpretation could differ.”  Therefore, Colony did not resolve the case under Chevron Step 1 and, under Brand X, Treasury was free to issue a regulation that contradicts Colony.  (In its analysis, the Federal Circuit appears to have sided with the view, based on footnote 9 of Chevron, that legislative history can be considered at Chevron Step 1 (see our previous post)).  The court then applies the Chevron analysis to the new regulations and concludes that they are reasonable based on exactly the same government arguments that the court rejected in Salman Ranch when it was construing the statute in the absence of a regulation.  Finally, the court rules that Treasury did not abuse its discretion in applying the new regulations retroactively to years that were still open under the six-year statute.

The Grapevine decision is significant in the specific context of the Intermountain cases, as it virtually ensures that a circuit conflict on the issue will persist even if the Seventh Circuit reconsiders its decision in Beard.  And it is the first appellate decision to address in detail the merits of the government’s primary argument that it can overturn the prior adverse decisions in this area by regulation.  More generally, the case is a great illustration of Treasury’s power under the combination of Mayo and Brand X.  The Federal Circuit was keenly aware of the implications of its decision, summarizing it as follows:  “This case highlights the extent of the Treasury Department’s authority over the Tax Code.  As Chevron and Brand X illustrate, Congress has the power to give regulatory agencies, not the courts, primary responsibility to interpret ambiguous statutory provisions.”   Presumably, Treasury will continue to test the limits of how far it can go in exercising that “primary responsibility.”

Federal Circuit opinion in Grapevine

Fifth Circuit Rules for Taxpayer on Intermountain Issue and Cautions on the Limits of Mayo

The Fifth Circuit announced today its ruling in favor of the taxpayer in the two consolidated cases pending before it on the Intermountain issue, Burks v. United States, and Commissioner v. MITA.  As we previously noted, the Fifth Circuit had decided what the government regarded as the most favorable precedent on this issue before the Son-of-BOSS cases, Phinney v. Chambers, 392 F.2d 680 (5th Cir. 1968), but the court at oral argument appeared to be leaning towards finding that case distinguishable.  And so it did, creating the anomaly that the Seventh Circuit in Beard has given Phinney a much broader reading than the Fifth (see here).  In any event, the Fifth Circuit rejected the reasoning of Beard and concluded that Colony is controlling with respect to the meaning of the phrase “omits from gross income” in the 1954 Code.  The court addressed this argument in some detail, relying heavily on the “comprehensive analysis” of the Ninth Circuit in favor of the taxpayer’s position in Bakersfield Energy Partners, LP v. Commissioner, 568 F.3d 767 (9th Cir. 2009).

The court devoted comparatively little attention to the government’s reliance on the new regulations.  It concluded that the statute was unambiguous and therefore there was no basis for affording deference to the regulations.  In addition, the court stated that the new regulations by their terms were inapplicable because they should be read as reaching back no more than three years — an argument accepted by the Tax Court majority but that does not appear to be among the taxpayers’ strongest, especially after the final regulations were issued.

The most provocative discussion in the opinion is a long footnote 9 near the end, which points out some possible limitations on the impact of the Supreme Court’s recent Mayo Foundation decision (discussed here).  Although its conclusion that the statute is unambiguous made the regulations irrelevant, the court went on to state that it would not have deferred to the regulations under Chevron even if the statute were ambiguous.  On this point, the court emphasized an important difference between Mayo and the Intermountain cases — namely, the retroactive nature of the regulations at issue in the latter cases.  Noting that the Supreme Court has said that it is inappropriate to defer “to what appears to be nothing more than the agency’s convenient litigating position” (quoting Bowen v. Georgetown Univ. Hosp., 488 U.S. 204, 213 (1988)), the Fifth Circuit stated that the “Commissioner ‘may not take advantage of his power to promulgate retroactive regulations during the course of a litigation for the purpose of providing himself with a defense based on the presumption of validity accorded to such regulations'” (quoting Chock Full O’Nuts Corp. v. United States, 453 F.2d 300, 303 (2d Cir. 1971)).  In addition, the court questioned the efficacy of the government’s request for deference to final regulations that were largely indistinguishable from the temporary regulations:  “That the government allowed for notice and comment after the final [perhaps should read “temporary”] Regulations were enacted is not an acceptable substitute for pre-promulgation notice and comment.  See U.S. Steel Corp. v. U.S. EPA, 595 F.2d 207, 214-15 (5th Cir. 1979).”

Thus, we have perfect symmetry between the conflicting decisions of the Fifth and Seventh Circuits.  The Seventh Circuit says that the statutory language supports the government, so there is no need to consider the regulations.  But if it did consider the regulations, it would defer.  The Fifth Circuit says that statutory language unambiguously supports the taxpayer, so there is no justification for considering the regulations.  But if it did consider the regulations, it would not defer.  The Supreme Court awaits, and it may well have something to say about the Fifth Circuit’s observations in footnote 9.

Fifth Circuit opinion in Burks

Fourth Circuit Rules for Taxpayer on Intermountain Issues

The Fourth Circuit, in an opinion authored by Judge Wynn and joined by Judges Wilkinson and Gregory, has solidified the circuit conflict on the Intermountain issue by ruling for the taxpayer in the Home Concrete case.  (See our original post on these cases here.)  First, the court held that the statutory issue was resolved by the Supreme Court’s decision in Colony, rejecting the argument recently accepted by the Seventh Circuit in Beard (see here) that Colony addressed the 1939 Code and should be understood as applying to identical language in the 1954 Code only to the extent that the taxpayer is in a trade or business.  The court concluded that “we join the Ninth and Federal Circuits and conclude that Colony forecloses the argument that Home Concrete’s overstated basis in its reporting of the short sale proceeds resulted in an omission from its reported gross income.”

Second, the court held that the outcome was not changed by the new Treasury regulations.  The court held that the regulations by their terms could not apply to the 1999 tax year at issue, because “the period for assessing tax” for that year expired in September 2006.  See Treas. Reg. § 301.6501(e)-1(e).  The government argued that the new regulations apply to all taxable years that are the subject of pending cases, but the court held that this position could not be squared with the statutory text of Code section 6501.  In any event, the court continued, no deference would be owed to the regulations under the principles of Brand X because the Supreme Court had already conclusively construed the term “omission from gross income” in Colony and therefore there was no longer any room for the agency to resolve an ambiguity by regulation.

Judge Wilkinson wrote a separate concurring opinion to elaborate on this last point.  He observed that Brand X allows a regulation to override a prior court decision only if that decision was not based on a Chevron “step one” analysis — that is, on a conclusion that the statute is unambiguous.  This can be a difficult inquiry when examining pre-Chevron decisions in which the court had no reason to analyze the case through the lens of the two-step Chevron framework.  Judge Wilkinson explains why he “believe[s] that Colony was decided under Chevron step one,” concluding that the Supreme Court’s statement that it could not conclude that the 1939 Code language is unambiguous was “secondary in importance  to the thrust of the opinion” and the Court’s assessment of the statutory purpose.  (As previously discussed here, this question of whether Colony should be viewed as a “step one” decision, and the related question of how relevant legislative history is at “step one,” was the focus of the Federal Circuit’s attention in the oral argument in Grapevine.)

Judge Wilkinson then goes on to make some more general observations about the limits of Chevron deference in the wake of the Mayo Foundation case.  He states that Mayo “makes perfect sense” in affording “agencies considerable discretion in their areas of expertise.”  He cautions, however, that “it remains the case that agencies are not a law unto themselves.  No less than any other organ of government, they operate in a system in which the last words in law belong to Congress and the Supreme Court.”  In Judge Wilkinson’s view, the government’s attempt to reverse Colony by regulation “pass[es] the point where the beneficial application of agency expertise gives way to a lack of accountability and a risk of arbitrariness.”  He concludes that “Chevron, Brand X, and more recently, Mayo Foundation rightly leave agencies with a large and beneficial role, but they do not leave courts with no role where the very language of the law is palpably at stake.”

The Fourth Circuit’s decision seems to eliminate the slim possibility that the Intermountain issue could be definitively resolved short of the Supreme Court.  There are now two circuits (the Fourth and the Seventh) that have come down on opposite sides, though both had the opportunity to consider the recent developments of the final regulations and the Mayo decision.  At this point, the government is likely to seek Supreme Court review, either by acquiescing in a taxpayer certiorari petition (possibly in Beard) or by filing its own petition in Home Concrete.  Unless petitions for rehearing are filed, the parties have 90 days from the date of final judgment to file a petition for certiorari in these cases.

Government Files Reply Brief in Intermountain

The government has filed its reply brief in the D.C. Circuit in Intermountain.  Although there are no surprises, the brief is a useful resource because it contains in one place the government’s arguments concerning three recent developments favorable to its case, which it has been calling to the attention of other courts piecemeal in supplemental filings.  Those developments are the Seventh Circuit’s Beard decision (see here); the Supreme Court’s decision in Mayo Foundation (see here), and the issuance of final regulations (see here).  Despite its recent victory in Beard on purely statutory grounds, the government still seems to believe that Chevron deference to the new regulations is its best bet.  The reply brief devotes 3 pages to the statutory argument and 23 pages to the regulatory deference argument.

Oral argument is scheduled for April 5.

Intermountain – US reply brief

Federal Circuit Plunges Deep Into the Weeds of Chevron Analysis in Grapevine Oral Argument

It took less than a day for the government to try out its new Mayo Foundation toy – that is, the Supreme Court’s ruling that deference to Treasury regulations is governed by the same Chevron principles that apply to regulations issued by other agencies.  (See our report on the Mayo decision here.)  The Intermountain­-type litigation posed the perfect opportunity to examine the impact of Mayo, as the regulations at issue in those cases clearly are more vulnerable under the National Muffler approach of looking to factors like whether the regulation is contemporaneous or designed to reverse judicial decisions.  Accordingly, the government promptly filed notices of supplemental authority in those cases calling the various courts’ attention to Mayo.

The Federal Circuit did not have much time to ruminate on the supplemental filing, as oral argument in Grapevine was set for the next day.  Even so, the government was not bashful about embracing Mayo.  Acting Deputy Assistant Attorney General Gil Rothenberg began his argument by telling the court that Mayo “foreshadows” how the case should be decided because of the “striking . . . parallels” between Mayo and Grapevine.  That opening triggered immediate pushback from an active panel (Judges Bryson and Prost, with Judge Lourie remaining mostly silent during the argument).  The judges pointed to the obvious difference between the cases, the existence of a Supreme Court decision (The Colony, Inc. v. Commissioner, 357 U.S. 28, 32-33 (1958)) that has already construed the statutory language at issue in Grapevine.  What ensued was a lively oral argument that focused almost entirely on the rules for Chevron analysis and very little on any topics that would be standard fare for a tax practitioner.

The Chevron jurisprudence issue that dominated the argument is the scope of the Supreme Court’s decision in Nat’l Cable and Telecommunications Ass’n v. Brand X Internet Servs., 545 U.S. 967 (2005).  As noted in our first post on these cases, Brand X says that Chevron deference is owed even to a regulation that conflicts with judicial precedent – as long as that judicial precedent did not hold that the statute was unambiguous (a so-called Chevron Step 1 conclusion that would leave no room for interpretation by the agency).  That limiting principle arguably defeats the deference argument in the Intermountain cases because the Supreme Court in Colony had construed the “omission from gross income” language as not covering cases of overstated basis.  On the other hand, in reaching that conclusion, the Court had remarked that the statutory text was not “unambiguous” and had looked to legislative history as well.  357 U.S. at 33.  Thus, the government argues that the Brand X limiting principle does not apply because the Supreme Court did not declare the statutory text unambiguous.

The case thus raises a fundamental question of Chevron jurisprudence:  to what extent, if any, can a court look beyond the statutory text at Chevron Step 1?  Chevron itself clearly answered this question.  In defining Step 1 in which no deference is owed if the regulation conflicts with the “unambiguously expressed intent of Congress,” the Court explained in a footnote that a court is to determine Congress’s intent “employing traditional tools of statutory construction,” which presumably allows reference to legislative history.  Chevron U.S.A. Inc. v. Natural Resources Defense Council, Inc., 467 U.S. 837, 843 n.9 (1984).  Brand X stated that “[t]he Chevron framework governs our review.”  545 U.S. at 980.  So did Brand X reaffirm the statement in Chevron that the Step 1 analysis goes beyond the text and includes analysis of the legislative history?  Not so fast.  The Brand X opinion was authored by Justice Thomas, no fan of legislative history, and that opinion’s formulation of Chevron Step 1 in Brand X was notably more restrictive; deference is owed unless the “prior court decision holds that its construction follows from the unambiguous terms of the statute.”  545 U.S. at 982 (emphasis added).

The judges at the Grapevine argument focused on this question – in particular pressing government counsel on the contours of the government’s position.  Counsel tried to walk a fine line, hoping to significantly marginalize the role of legislative history at Step 1 without blatantly disregarding the language of Chevron.  He stated that legislative history is relevant at Step 1 only for the very limited purpose of determining the meaning of a “term” in the statute, but not for determining the general purpose of the statute and using that as an aid to statutory construction.  (This approach is more nuanced that the position advanced in the government’s brief, which appeared to argue that legislative history can never be examined at Chevron Step 1.)  The court questioned both whether this line could truly be drawn and whether in any event it would aid the government’s position in this case where the Colony Court had used legislative history to construe the statutory phrase “omission from gross income.”  Judge Prost specifically asked government counsel whether he was arguing that Brand X had overruled Chevron.  In response, he characterized Brand X as “narrowing” the broad language of Chevron and later acknowledged that he believed that Brand X is “not completely consistent” with footnote 9 of Chevron.  With respect to the question whether his argument failed in any event because Colony had construed a statutory term, government counsel argued that Colony had construed the 1939 Code and therefore was not authoritative on the meaning of the same language in the 1954 Code.

Taxpayer’s counsel got a similar grilling from the panel when he took the podium and tried to argue that the court should simply follow Chevron footnote 9 and not worry about any possible retrenchment from that position found in Brand X.  Judge Bryson observed that there is only a “tiny sliver” left of Chevron deference if one applies footnote 9 aggressively –  that is, by allowing a determination of general congressional intent through legislative history to play a significant role at Step 1.  Taxpayer’s counsel looked to Mayo for help, observing that Mayo had cited approvingly to pp. 842-43 of Chevron, the very pages that included footnote 9.  Judge Bryson, however, quickly retorted that the Mayo citation did not mention footnote 9.

Taxpayer’s counsel spent some of his argument time seeking affirmance on narrower grounds, such as that the new regulations could not apply to Grapevine’s case either because they were promulgated after the trial court issued its final judgment or because, as the Tax Court majority held, the new regulations by their terms did not apply to cases outside the three-year statute of limitations.  But the Federal Circuit showed little sympathy for these arguments. Instead, it appears likely that the Federal Circuit’s decision will wade into the question of how Chevron and Brand X apply to the new regulations.  The court did not tip its hand, although to this observer it appeared more likely to conclude that the taxpayer should prevail – because Colony was a sufficiently definitive interpretation of the statutory text under Chevron Step 1 that Brand X does not leave room for it to be overruled by regulation.

One interesting aspect of the argument was the failure of anyone to discuss the point made by Justice Stevens in his one-paragraph concurring opinion in Brand X.  Justice Stevens noted that he fully joined the majority opinion, “which correctly explains why a court of appeals’ interpretation of an ambiguous provision in a regulatory statute does not foreclose a contrary reading by the agency.”  545 U.S. at 1003 (emphasis added).  Justice Stevens added, however, that “[t]hat explanation would not necessarily be applicable to a decision by this Court that would presumably remove any pre-existing ambiguity.”  Id.  Justice Stevens’ suggested distinction between court of appeals decisions and Supreme Court decisions makes Grapevine an easy case.  If Colony is understood to remove any ambiguity in the statutory text, then there is no room for Chevron deference to the new regulations and no need to get into the morass of determining whether Brand X modified Chevron.  Taxpayer’s counsel did not raise this point, however, and none of the judges asked about it.  (We note that the Tenth Circuit has addressed and rejected Justice Stevens’ suggested distinction between courts of appeals and the Supreme Court in applying Brand X.  Hernandez-Carrera v. Carlson, 547 F.3d 1237, 1246-48 (10th Cir. 2008).).

A decision from the Federal Circuit would ordinarily be expected sometime in the spring.  Judge Prost did ask government counsel about the status of the other Intermountain cases, and he responded that Grapevine marked the fifth case to be argued, with argument scheduled in the D.C. Circuit in April.  But the Federal Circuit did not give the impression that it planned to sit tight and let other circuits sort out these issues.  As we report elsewhere, the Seventh Circuit got the ball rolling today by deciding the Beard case – ruling for the government on statutory grounds without relying on the regulations.  That decision should not have much impact on the Federal Circuit, which has already rejected the Seventh Circuit’s reasoning in Salman Ranch Ltd. v. Commissioner, 573 F.3d 1362 (Fed. Cir. 2009).  If the Federal Circuit determines to rule for the government, it will have to rely on the regulations.

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